The FTSE 100 has broken through the 7,300 mark for the first time, uplifted by weak sterling and positive Christmas sales figures for the retail sector. But investors in UK stocks should think about taking profits, according to Sanditon UK fund manager Julie Dean – as there may be a significant market correction coming.
Dean, formerly of Cazenove where she ran UK equity funds for a decade, is not pessimistic about the outcome for UK shareholders, but she does say that the rally is over for certain sectors; particularly those that performed so well in 2016.
“We were ahead of the pack in calling the oil rally, but we no longer think commodity stocks have much upside,” she said. “It is difficult to see how mining stocks could return this year the same levels as in 2016 as the starting position is not as low. We have taken gains and are underweight commodity stocks now, although we still have a position in small and mid-sized oil producers such as Premier Oil (PMO).”
Dean aims to spot out value opportunities before the market does, leading to a contrarian portfolio, currently light on defensive stocks and mining companies. She says she is looking for quality companies, at the right price and more importantly, at the right point in the market cycle.
“This has been a drawn out economic recovery,” she says. “Global growth is lower than in previous cycles but the stock market has enjoyed a much greater level of returns because of 0% interest rates. This creates very expensive certain sectors – defensive stocks in particular.”
When Defensive Stocks Offer No Defence
Dean warns that we are at the end of the market cycle, and that a correction is due. In normal circumstances, now would be the point at which investors should flock to defensive stocks – companies that can provide sustainable dividends and low share price volatility. But because of central bank policy since the global financial crisis defensive stocks are trading at all time highs and no longer offer defence from a downturn.
“We have not owned Unilever (ULVR) for more than a year,” explained Dean. “Defensives are too expensive; their ability to defend your capital is compromised. Instead we have bought telecoms stocks such as BT (BT.A) and Vodafone (VOD) and are holding a large position in cash, waiting for buying opportunities once share prices fall.”
Currently, Dean is seeing the majority of these opportunities among large cap stocks, despite the significant FTSE 100 share price rally over the past 12 months; from 5,540 in March 2016 to 7,300 this week.
“In 2012 to 2013 I had around 55% of the portfolio in FTSE 250 stocks, now it is around 18%. I do not want to much in small caps because I am not a small cap manager and I am aware of liquidity risk,” she said. “I think large caps have the greater upside potential at the moment.”
Having recently taken gains in a number of positions, including industrial and mining stocks, Dean is now sitting on 9.5% cash and has just 30 stocks in the fund – where the fund size usually sits between 35 and 65 holdings. She explained that she was holding cash in lieu of defensive stocks, and that there were a number of companies she deems potential investments – but they are currently trading at the wrong price.
“It has easy to be an equity investor in recent years – in 2012 to 2013 85% of stocks when up and the median return was 20% a year. Now you have to be selective, it is as much about what you do not invest in – the falls you avoid – as what you do hold in the portfolio,” she concluded.
